Manufacturing outlook 2018q2 - what's the sector story?

On Monday we brought you the headlines from our 2018q2 Manufacturing outlook report. As quick recap, there is still plenty of positive news about as we hit the mid-point of 2018, but the pace of growth has slowed and we expect manufacturing to stay on that weaker trajectory for the remainder of this year. But after the broad-based sub-sector growth of 2017, greater divergence across different manufacturing segments has re-emerged. Here’s a round-up of the sector highs and lows and what all that means for our latest manufacturing forecast.

The chart below is, for me, the clearest representation of the divergent performance of the different parts of manufacturing, depending on the source of final demand. While there has been growth across the board, those industries most reliant on other companies investing or on the upturn in the global economy have been faring far better than those dependent on the spending appetite of consumers (final consumption).

Our Manufacturing Outlook survey has been consistent with this

This trend is one that has been replicated in recent Manufacturing Outlook reports. Particularly striking at the end of last year and the first few months of this year is the strength of the output balances recorded in the investment focused mechanical equipment and electronic sectors. And in both cases, the average output balance in 2017 was the strongest we’ve got on record (our sector data goes back to 2003).

This is unsurprising given the pretty punchy rates of business investment growth seen across the OECD last year. Any softening in the balances in the past three months is in this context and linked, to a greater degree, by a deterioration in the domestic orders outlook.

2018q2 sees increased impact from weak construction sector

Coming on the heels of some very weak readings from the non-metallic minerals and electrical equipment sectors in official data for 2018q1 (output was down q-on-q by 4.1% and 8.9% respectively – eek!), our latest report also sees sectors exposed to construction supply chains lagging.

Global trade developments could put the brakes on metals expansion

Amongst the most positive about their recent output performance are the metals sectors. Basic metals has been back on a growth trajectory following the crisis of 2015 and 2016, when global overcapacity, a crash in oil and gas activity and high domestic energy prices combined to create the worst of all worlds for the industry. Some of these challenges had faded and world metals prices were on the up again. But the recent announcement that tariffs will be applied on steel and aluminium from the EU to the US could quickly derail this growth.

Growth not guaranteed for all sub-sectors this year

Global demand, policy developments and the inevitable consequences of the (still) on-going Brexit negotiations are playing out in different ways across different manufacturing sub-sectors and, therefore, our headline manufacturing forecast of 1.9% growth this year conceals significant variation underneath the surface.

Here are the trends underpinning our sector forecast:

Textiles, after recording growth in 2017, is set to struggle. Competition and a lack of skills and capacity in the UK is limiting the extent to which the UK can benefit from the rise of ‘fast fashion’. Output is expected to contract 6.7% in 2018.

Prospects for paper and printing should turn a corner after a disappointing start to 2018. The fundamentals for the sector look better this year thanks to continued growth in packaging for online retailing and the switch away from plastics.

With 63% of intermediate demand coming from the construction sector, non-metallic minerals (bricks, mortar, glass) is the sector most exposed to construction’s outlook. We forecast a contraction of 4.2% this year, with a modest rebound next.

Rubber and plastics sees nearly a third of its intermediate demand coming from construction, so a year of subdued growth – at 0.6% overall – is in prospect.

Official statistics continue to paint a very erratic picture for pharmaceuticals. After a big fall in output last year we expect some pull back of 1.1% this year. (New Sector Bulletin coming in July)

Chemicalsis also set to feel the effects of weaker construction activity, given that a fifth of the sector’s output goes into it in the form of paints and coatings. We are forecasting the sector to move from growth of 3.0% last year, to a small contraction of 0.2% this year.

Food and drink had a weak start to the year, due to poor weather and the introduction of the sugar levy. We forecast growth of 0.3% in 2018.

Other transporthas been a source of good news over the last three years, which is expected to continue on the back of a huge backlog of work, we expect the sector to have an even stronger year, forecasting growth of 8.9%.

The recent weakness in themotor vehicles sector, which expanded by 0.5% in 2017, its weakest growth since the financial crisis, is expected to continue this year. Demand for diesel cars has fallen back and there is also concern that the sector has hit saturation point.

Electrical equipment output fell nearly 9% at the start of the year. This should stabilise over the remainder of the year leaving output down 6.5% overall.

The electronics sector had a strong start to the year. It continues to benefit from the global demand and investment, with semiconductor sales remaining robust. We expect growth of 5.8% in 2018.

Mechanical equipment has recorded five consecutive quarters of expansion and we expect this momentum to continue this year, especially given that the sector’s capacity utilisation is above its long run average. We are forecasting growth of 9.7% this year.

Basic metals, after a couple of dreadful years over 2015 and 2016, has seen its prospects improve recently, with growth of 3.2% in 2017. Key forces behind the outlook include Sterling’s deprecation and the rise in steel prices.

Linked to the basic metals sector is the metal products sector. Overall the sector follows the wider manufacturing trend and we are forecasting growth of 3.1% this year.